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5.4.3 Bank-Relevant Structural Trends in the Digital Age Industrialisation, Network Organisation and Virtualisation

From the perspective of transaction cost theory, financial institutions represent a hierarchical solution to the coordination problem of financial services. They turn information into knowledge, which then flows into the financial services. Until the end of the last millennium, there were information asymmetries between providers and customers, and also between different customer groups with regard to the quality of information on all functions of financial intermediation (see Sect. 4.5.1). Prior to the digital age, the price for these services was justified by the more efficient allocation of resources and the low transaction costs for customers in procuring and processing financial information.

The traditional understanding of a bank is based on a vertical, integrated organisation, which makes and provides products and services; all process components to manufacture and sell the products are completed internally by the company itself (Llewellyn 1999, p. 23). Prior to the digital age, the models were aimed at the customer in the classic sense—the interface with the customer was defined by the account and deposit relationship—customers could choose their “advisory institution”, open their accounts there and avail, where necessary, of individual products from other providers, usually for a larger fee. If a customer wanted a number of bank relationships simultaneously, they had to aggregate these themselves, as the relevant technical possibilities did not yet exist—otherwise they revealed their overall situation to their advisor. Only with this step, or by cooperating with an “independent asset manager” who was concentrated solely on the advisory capacity, could the customer aggregate between different providers and maintain an overview. It was not possible, in contrast, to choose different product providers and/or processing institutions. Previously, almost every bank produced each step of the service configuration itself (Egli and Ru¨st 1997). The reasons given were the guarantee of a confidential treatment of customer data and the protection of privacy. Involving third partied was seen as a weakness (Geiger and Hu¨rzeler 2003). Now, the technology of the digital age has clearly changed this situation. Information can be sent and distributed to every place in the world within seconds. Customers can get share price information on the internet in real time, exchange opinions, observe the behaviour of “star traders” and conduct their stock exchange transactions via online platforms, without requiring the services of a bank as an intermediary.

Because of the key strategic trends—see Sect. 5.3.4—more efficient structures must be set up—this is also logical from the perspective of transaction costs. Until now, financial institutions provided an almost purely hierarchical solution to the coordination problem when satisfying customer needs. Gradually, transitional forms of coordination between companies and markets are being developed, such as network organisations, cooperative networks or virtual organisational structures. When the reduction in transaction costs due to modern information systems exceeds the increase in coordination costs (Picot et al. 1996), the result is a modification of previous forms of coordination.

The modern organisational principle, therefore, is the integration of business processes and the orientation towards customer benefit, as well as the minimisation of lead times with the involvement of one or more partners. An integrated organisational principle must ensure that the structural organisation of a bank is aligned with the business processes, which leads to a powerful and agile organisational form within each individual bank.

At the same time, the growing division of labour and specialisation increases the demands on coordination and thus also transaction costs. In contrast to the traditional organisation according to development and operation, process-oriented organisational design places the main focus on the special demands of an optimum operation of value-creating processes (see Waser and Peter 2013, p. 39). “The objective is to design, where possible, continuous processes between the procurement and sales markets, without any interface. [.. .] The key words “customer orientation” are meant seriously, because an immediate feedback from the customer becomes possible.” (Osterloh and Frost 2006, p. 33) The core processes must be directed rigorously towards the strategic goals of the company (see Osterloh and Frost 2006, p. 36). Each process contains many individual activities, which together produce a result. However, only a few activities can increase the value of the result. Therefore, all activities that do not increase value should be reduced to a minimum. Fu¨ermann and Dammasch (2012) categorise all activities into effective, supporting, blind and erroneous performance. Figure 5.3 shows the proportion of their overall performance in processes.

Effective performance refers to those activities that lead to an increase in value from the customer's perspective. This might be the advisory process, for example, or also marketing measures. These activities are planned and should be optimised continually.

In contrast, supporting performance contributes only indirectly to an increase

in value. It supports the effective performance, for example by preparing meetings or approving loans. These activities are not noticed by the customer, yet they generate costs. Therefore, such activities should be reduced as much as possible and optimised to be economically effective.

Blind performance is unplanned and does not contribute either directly or indirectly to increasing value. It includes, for example, multiple entries due to media disruption or the rejection of loan applications due to missing documents. These activities are not noticed by the customer and they drive up costs. They must be eliminated.

Fig. 5.3 Allocation of performance (Source Fu¨ermann and Dammasch 2012, p 54) Erroneous performance covers those activities that were perhaps planned as effective or supportive performance, but which could not be utilised due to errors. These activities must be avoided by means of improved planning, training or process optimisations.

A critical review of processes based on these aspects should increase the share of value creation within the process. Concentration is placed on the activity that increases customer benefit. Unnecessary activities should be identified and reduced or eliminated (see Fu¨ermann and Dammasch 2012).

Here, the use of technology becomes a key existential question. Even in the information-intensive banking sector, the previous linear value chains are breaking up into value networks. This new form of cooperation different partners in network structures is also known as collaborative commerce (Kyburz 2001). It involves the deconstruction, disintermediation and reintegration of business processes (Evans and Wurster 1998; Keller 2000). First the internal processes are divided analytically into their individual parts. Then a gradual disintegration takes place.[1] Increasingly, partial components are carried out by specialised third parties. Due to the diverse range of information and as a result of the suspension of the conflict between comprehensiveness and range, the customer is able to circumvent previously established intermediaries. The result is disintermediation (Hu¨ rzeler 2000; see also Geiger and Hu¨rzeler 2003).[2] New and more efficient value creation processes emerge. Reintegration[3] takes place on a networked basis (Keller 2000). A further result of the digital age is that it allows communication between all network participants (Evans and Wurster 1998). Hierarchies become networks—and virtualised business models (Janssen and Vanini 1999).

Coordination between the individual partners in a network—whether within the bank or cross-company—is done by defining roles. A role involves responsibility for one process and is defined in the role description. This helps managers and employees to have a clear picture of their main tasks, and clear responsibilities are defined. The result is increased transparency and orientation—for management and staff—with regard to responsibilities and interfaces. The so-called RACI matrix (responsible, accountable, consulted, informed) is often used to illustrate the dependencies and responsibilities. In the process, the roles mesh together like gear wheels. “Holding responsibility” means being measured on agreed work results and reaching targets within the defined action frameworks. Responsibility consists of tasks, authorisation, and accountability.

The providers integrated earlier must share the declining value creation. The reduced transaction costs change both the production structure of the entire sector and the form of customer relationship with regard to an industrialisation of banks.[4] “If the automobile industry had the same production depth as banks or insurance companies do, they would breed cattle to produce leather for the seats themselves.” (Gillardon 2010, p. 22). The previous prototype of the integrated bank, which covers all parts of value creation, is an obsolete model. Financial intermediaries can produce according to industrial principles: customer orders are on the “conveyer belt”, the raw materials consist of information, the goods are money, precious metals and securities.

In the network-based value chain, the integrated value chain has disintegrated into a virtual network, without the customer having noticed. Bank advisors remain the contact points for the customer, and at the same time coordinate the network partners. They define the standards for the cooperation, advise the customers and trigger transactions by buying and selling products and services. Research and investment guidelines can be provided by external partners, just as product manufacture, trading and transaction processing can. The creation and operation of networked systems pose a large challenge to banking providers. Different thirdparty systems must be integrated into the bank's own platform, in order to be able to access the relevant customer data from the external system. For this purpose, standardised methods are used, which allow data transactions between different companies and enable the conversion of these data to executable orders in other companies. It is absolutely necessary to introduce security instruments for the different access authorisations to the partner systems and to transfer sensitive data in coded form. Finally, CRM systems are needed, which can enable communication across channels and the management of the preferences, behaviour and interactions of customers, while observing the regulatory requirements. Outsourcing as an Essential Element of Industrialisation

Transaction costs are the key determining factor in selecting hierarchical or market forms of organisation and thus in the matter of outsourcing. In efficient markets, a company will completely outsource all activities that do not belong to the core competences if the market costs of searches, contracts and controls are lower than the hierarchical costs. Outsourced competences can also be those that were traditionally seen as integral parts of each company, but for which there is no strategic necessity or no specialist skills. The following factors can be seen as drivers of the amount of transaction costs (Bosch 2004, p. 125 f.):

• Degree of uncertainty with regard to the future and the outsourcing service providers

• Specificity of the production factors deployed, which are tailored precisely to the company in question. The relative costs of outsourcing partial activities increases with the factor specificity. Market solutions become ever more expensive due to organisational and contractual safeguards in the face of growing uncertainty.

• State regulations allow only a gradual development of technological potential. It is often obligatory for legal reasons to produce some steps within the bank, even though outsourcing would make better economic sense.

• From the resources perspective, the incentive to involve others in partial activities sinks in accordance with how strategic the activities are. Nobody is keen to surrender strategically significant know-how.

In summary: a high degree of factor specificity, great uncertainty, regulation and large strategic significance favour in-house production. Figure 5.4 presents the outsourcing alternatives and also intermediate forms from the perspective of transaction costs.

The artificial word coopetition was coined for the mixture of cooperating in networks and competition, and means the strategy of trustworthy cooperation between competing providers to the advantage of both partners and the customer (Nalebuff and Brandenburger 1996). The concept of coopetition follows a gametheory approach that combines the advantages of cooperation with the advantages of competitive pressure. Although two or more companies might be battling for customers in their sales markets, they cooperate with each other in certain areas, to the benefit of both (Dathe 1999). There are different control and flexibility variations, such as with regard to arranging the relationship with network partners.

There is a permanent trade-off between flexibility and control. Due to the increased complexity, the improved technological flexibility, the changed transaction costs and the associated higher specialisation, outsourcing has become more attractive in principle. Specialised providers can often produce competences at lower costs and with greater added value.

Understanding outsourcing and network partnerships is an important competence for every company in the digital age and an integral part of every business model (Quinn and Hilmer 1994).

Fig. 5.4 Characteristics of outsourcing based on key resources and factor specificity (Source Bosch 2004, p. 127)

The time required to launch a new products and services can be reduced significantly by cooperating with best-in-class network partners. The advantage of this strategy is the realisation of efficiency potential, including cost reductions. Prior to the outsourcing decision, any potential vulnerability due to dependence on external partners and the surrender of key competences should be clarified. A loss in flexibility in product development and innovative capability may arise due to the difficulty of combining many competences in a differentiated manner (Quinn and Hilmer 1994).

Three effects can be distinguished in efficiency potentials (Hu¨rzeler et al. 1999):

• Economies of scale enable a reduction in costs by producing larger quantities.

Large companies can gain competitive advantages particularly in transactionintensive processes by means of automation. In the field of consulting, great value is achieved by means of individual support. This means that economies of scale tend to be small in such personnel-intensive work. In an age of technological change, negative economies of scale might even emerge, as size is no guarantee of survival in innovation-intensive phases.

• Synergy effects enable cost savings through the joint use of infrastructure or via cross-selling. In the digital age, the possibilities of cross-selling have grown, with an increase in integral optimisation and an objective choice of best-in-class products.

• Knowledge effects allow the exchange of know-how in networks. The specialisation of each network partner on his core competence and the exchange of experience within the network means allows the value chain to be examined for optimisation potential and the specialist knowledge to be integrated into the overall context.

Many company execute their own activities internally only because this was always common practice or because these activities appear to be integral parts of the end product. However, a more realistic market comparison can show if the internal efficiency lies well below that of the best-in-class company and whether or not outsourcing might be a sensible alternative. In markets with many providers and mature structures, it seems possible to attain lower transaction costs through outsourcing. Therefore, the critical question for each company when it comes to focusing on core competences and on outsourcing is: Which parts of the value chain should be produced in-house in order to best deploy the quality of the core competences? The following derived questions are paramount:

• What potential does the analysed core competence have to achieve a strategic competitive advantage under consideration of the transaction costs?

• How great is the potential vulnerability caused by surrendering central core

competences and the dependency on partners, or by the development of incorrect core competences in the event of a decision to outsource?

• Which measures can be taken to reduce this vulnerability by means of precise agreements with network partners? Solution-Finding Competence as a Differentiation Factor for Banks

The availability of information in the digital age does not automatically increase the level of knowledge among investors. Information cannot be equated with knowledge. Information is data that have a purposeful reference (Mu¨ller-Merbach 1995,

p. 4). These data encompass an almost unlimited amount of available facts, statistics, texts, pictures, audio and video sequences in existence. The danger is that such easy access to more and more information will lead to the generation of information giant, yet people will understand less and less of it. The knowledge advantage held by banks cannot be caught up on immediately, as it is so-called implicit knowledge. Acquiring and transferring this implicit knowledge is bound up with the experiences and internal contexts of those who have the knowledge and often demands a context transfer: analytical skills and expertise are required to understand and convert the information into knowledge. From a banking perspective, this means that while all investors have access to the same raw data of the capital markets in the digital age, these can still only be assessed based on specialist knowledge and financial market models. For this reason, financial intermediaries still have a right to exist to provide complex advice, as this creates real added value for the customer. The competitive opportunities of financial intermediaries are large wherever banks' integration and solution-finding competence is in demand.

  • [1] Disintegration means that in the event of sinking transaction costs, procuring (intermediate) products externally is cheaper than their internal production.
  • [2] Disintermediation means that the direct contact with a third party—due to the lower transaction costs—is cheaper than involving an intermediator.
  • [3] Reintegration means that efficient providers compile individual components of the formerly integrated value chain into value networks.
  • [4] One used to speak of “looming paradigmatic changes, a fundamental redefinition of the economic function and responsibility of the bank and thus of the concept of banking” (Bernet 1997,p. 33) and of the industrialisation of the business models through networked banking (Evans and Wurster 1998).
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